Tackling inflation in the Gulf

13 November 2007
With the devaluation of the dollar showing no sign of ending and seasonal worries about a shortage of winter fuel supplies in the northern hemisphere, it is no surprise that oil prices continued to climb this week, topping $98 a barrel. The long-forecast era of oil at $100 a barrel is just around the corner.

The immediate result for oil producers in the Middle East is the continued surge in revenues, which have been driving the region’s economic boom for the past five years.

But while the oil hikes have sustained unprecedented growth, there are clear signs that the regional economy is overheating. Inflation in the region is becoming an increasingly problematic issue, making the prospect of even more liquidity a major concern.

Saudi inflation has reached a decade-long high of 4.8 per cent, while in economic hotspots such asDubaiandQatar, it is well into double figures. Rising costs are affecting every aspect of life, from house and food prices to salaries.

Some governments, such as Doha, are seeking to introduce rent price controls to limit inflation. But this is a policy that is likely to be counter-productive as it will make real estate investment less attractive. It would dampen the supply of property, which will add to inflationary pressures.

The really bad news for the region is that in the long term, inflation is destined to continue rising because of the huge growth in money supply. In Saudi Arabia, money supply growth averaged 24 per cent year-on-year between January 2004 and May 2007. In Qatar, money supply and private sector credit growth are the highest in the region.

Governments need to act soon. One step being considered is to issue sovereign bonds that will soak up some of the
excess liquidity.

But the key issue remains the currency peg to the dollar. The dollar peg is a key driver of inflation. With the dollar falling, it can only add to the pressure. Just as $100-a-barrel oil is now all but inevitable, so too are further revaluations of the currency peg in the Gulf.

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